Cost Estimation Failure
Cost estimation is a continuous process. It calls for financial commitments at various levels and by various agncies involved in the project. The client or the promoter, basing his judgement on the feasibility cost estimates, accepts engineering costs and signals the start of the engineering phase of the project. During this phase, his professional team or the consultants develop the design, the specifications, and the drawings which lead to the formulation of bill of quantities (BOQ). The BOQ contains work quantity estimates, and also indicates the approximate cost. At this stage, the client may review the cost commitments prior to giving the go-ahead for the tendering action.
On receipt of work tenders from the client’s consultants, the contractor prepares his detailed estimates within the specified tendering period. He quotes his estimated price for the work itemized in the BOQ, and this tendered cost becomes his financial commitment for executing the works. Acceptance of the contractor’s quoted tender by the client implies his commitment for the payment of the quoted costs.
Based on the quantities and costs reflected in the BOQ, the contractor’s project planner draws up his plan of work. This plan forecasts the contractor’s commitment for resources and input costs and consequently, the revenue which he can expect.
This estimation process continues during the execution stage. The contractor’s cost accountant, based on information from the site, undertakes the accounting commitment including accounting of actual costs, analyzing variances from estimated costs, and indicating the cost trends. The progress estimator (of the client) responsible for the interim payments estimates the contractors payments based on prices quoted in the BOQ, and thus implies a commitment for the correctness of part payment to the contractor. Finally. on completion, the final bill prepared by the contractor undergoes a scrutiny by the consultant, and this scrutinized bill gives the final estimate of project costs to be incurred by the client.
There are various methods employed for estimating the project costs. These include: unit cost estimation, parameter estimation, factor estimation, range estimation, and detailed contractor’s estimation. The method used depends on the purpose for which the estimate is required, the degree of accuracy desired, and the estimating effort employed.
The following are the rough guidelines for selecting the appropriate method of estimation.
a) Inception stage
The estimation is initially based on the prevailing unit cost of the facility. Some examples of unit cost estimation are given below:
Nature of project | Method of estimation |
Building works | Cost per square meter of plinth area or floor area |
School building | Cost per student |
Hospital | Cost per bed |
Motels | Cost per visitor or guest |
Theater | Cost per seat |
Water storage reservoirs | Cost per litre |
Parking areas | Cost per space |
Roads, highways, and airports | Cost per square meter of the surface area |
The prevailing cost depends upon many factors such as the location, specifications, resources availability, working conditions, and the political environment. This estimation method called the unit cost method, needs little time and effort, sometimes just a few hours, to compute the cost, provided the prevailing rates are available.
The range of accuracy of this methods is roughly 40% and, therefore, it has to be further refined by using other estimating techniques when the architectural and structural drawings are prepared and other related information becomes available.
b) Preparatory stage
The BOQ, prepared during the engineering stage, provides data for estimating the approximate cost by using any of the following two methods:
i. Computing direct costs for each item of work and adding fixed percentage for indirect costs, contractor’s profit and consultancy charges.
ii. Computing costs using the factor estimate or parameter estimates methodology, provided sufficient past performance data is available.
The cost estimates thus derived are 10-20 % on the accuracy range, and the time taken depends on the scope of the project, availability of the past performance data, and the method of execution.
c) Contractor’s tendering and execution stage
This estimate is based on the tendered BOQ and the contract stipulations. Tendering requires detailed estimation as inaccuracies both on plus and minus side can adversely affect the project feasibility and contractor’s business respectively. Preparation of detailed estimation is a time consuming process and its accuracy (ranging from 2-10 %) depends on the time and resources available for the preparation of estimation.
Despite the well-established methodology for project estimation. the glamour of hefty profits and the security of the everlasting market, financially, construction business still remains a risk proposition. Unlike other industries where the sale price of the product is determined after its manufacture, in construction, generally the works are priced before they are produced. This estimation of costs before the completion of the project adds to the business risk of the client as well as the contractors.
A construction contractor always gambles when he bids for a fixed price contract. A bid on the higher side (of what he considers reasonable) may mean an opportunity missed for new business, whereas a quotation on the lower side may imply less profits, or possibly a loss or, in some cases, even the contractor’s bankruptcy. When the contractor wins a bid for quoting the lowest, his fellow bidders may question his judgement. Studies reveal that the failure rate of the construction contractors is one of the highest among the various types of businesses.
A construction project based on inaccurate cost estimates is bound to fail unless its performance objectives are revised and/or additional funds inducted.
